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Is The Saudi-Russia Oil Bromance At Risk?

A week before OPEC and allies meet in Vienna to discuss a new oil production cut, the market is still wondering whether the leaders of the OPEC and non-OPEC nations—Saudi Arabia and Russia—will cement their cooperation in managing the oil market by agreeing on a fresh cut to prevent a glut and prop up prices.

It’s not unusual for Russia to leave everyone guessing until the very last moment whether it is on board with a production cut—Moscow has done so in all previous meetings since its oil-market-management cooperation with Riyadh started two years ago in November 2016.

What’s unusual this time around is that next week’s OPEC+ meeting will be much more politically charged than previous gatherings.

U.S. President Donald Trump Twitter-crashed the party weeks before it begins with comments that he hopes there won’t be a cut, with a thank-you-Saudi Arabia tweet, and an urge for even lower oil prices, while basically declining to blame Saudi Arabia and its Crown Prince Mohammed bin Salman for the murder of Jamal Khashoggi.

Even without President Trump’s recent comments on oil prices and the Khashoggi affair, Saudi Arabia and Russia have been reading from the same book, but they are not exactly on the same page about where they want oil prices to be.

Saudi Arabia is not happy at all with Brent Crude at $60—it needs much higher prices, probably closer to $80, to balance its budget. Russia, on the other hand, doesn’t need as high oil prices as the Saudis do, and due to its complex oil taxation system, Russian companies benefit more from lower oil prices and higher production. Moscow also moved in early November to cap wholesale fuel prices to prevent further gasoline price spikes—a highly politically sensitive issue for President Vladimir Putin, who has also enacted an unpopular pension reform to lift retirement age.

Saudi Arabia’s Energy Minister Khalid al-Falih said at the end of an OPEC panel meeting in early November that the group needed “to do whatever it takes to balance the market,” and that OPEC analysis shows that a cut of 1 million bpd may be needed to restore market balance amid fears that oversupply has started to build again. Related: Natural Gas Prices Fall Below Zero In Texas

At the same time, Russia’s Energy Minister Alexander Novak warned against hasty decisions on another U-turn in oil production policies, and said that he would be discussing potential oil production cuts with Russian producers, who don’t appear too keen to start cutting again after the OPEC/non-OPEC meeting in June gave them leeway to ramp up output to post-Soviet record highs.

Officially Russia says that it will continue cooperation with Saudi Arabia in the oil market, but its still dodging any specifics about a possible production cut.

“As for the need to limit production or not, I will not say anything about this for the time being. We must be very careful in this respect because every word is important and affects the federal budget revenues. However, it is obvious that we should cooperate and we will cooperate,” Putin said in mid-November.

Analysts believe that despite dubious economic benefits from high oil prices for Moscow, Putin will find the political gain irresistible—further boosting Russia’s influence in the Middle East—and will have Russia agree to cuts proposed by Saudi Arabia.

Putin, Trump, and Mohammed bin Salman are all scheduled to attend the G-20 summit in Buenos Aires this week. Putin and Trump are expected to meet there, and so are Putin and MBS. The summit in Argentina may turn out to be the first leg of next week’s OPEC+ meeting in Vienna, at which the Saudi and Russian energy ministers, al-Falih and Novak, may only seal what their respective bosses will have agreed upon in Buenos Aires. Related: The Biggest Losers Of The Current Oil Price Slump

Riyadh, however, is caught between a rock and a hard place. It definitely needs and wants oil prices higher than $60, but Trump’s support for Mohammed bin Salman could lead the Saudis to refrain from angering the U.S. President. Saudi Arabia may refrain from announcing a decisive sizeable cut next week, opting instead for a ‘quiet cut’ not worded as a production cut at all.

Such OPEC/non-OPEC announcements are not unusual at all—vague statements stressing on ‘market stability’ are OPEC’s specialty. The June meeting for example ended with the vaguest of announcements for striving for 100-percent compliance instead of 140 percent and more in previous months, and the Saudis and Russians interpreted it as raising production by 1 million bpd. The outcome of next week’s meeting may not be much different—a commitment to market stability and some percentage of compliance open to interpretation by the key oil price makers Saudi Arabia and Russia.

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Saudi Arabia’s partnership with Russia is a marriage of convenience. As long as their oil and geopolitical interests continue to converge, the partnership will continue.

When it comes to agreeing to a cut in OPEC+ oil production in the December meeting, their interests might diverge.

Russia is not so keen on a production cut since its economy could happily live with an oil price of $40 or less. Moreover, the bulk of Russia’s oil production is done by private Russian companies in which the State has some stake. These companies have invested heavily during the last few years to increase Russian oil production and are therefore keen on recouping their investments quickly rather than accept a cut in their production.

Saudi Arabia on the other hand needs a price far above $80 to balance its budget. However, the Saudis find themselves between a rock and a hard place. They feel obliged to cut production because they need a higher price and at the same time they need to respond to President Trump call not to cut production having stood by them in the tragic incident of the murder of the Saudi journalist.

If Saudi Arabia’s oil minister Khalid al-Falih is now saying that his country will not cut production without a collective decision from the OPEC+ members, then he should have consulted them before he succumbed to President Trump’s pressure on his country and raised oil production in collaboration with Russia against the wishes of the overwhelming majority of OPEC members in their meeting in June. The Saudis sacrificed then their national interests and those of the OPEC members to please President Trump.

Still, OPEC need not cut any production. If the global oil market swung into excess after Saudi Arabia and Russia added 650,000 barrels a day (b/d) to the market in June, then withdrawing these 650,000 b/d from the market will be the answer. The overwhelming OPEC members could be against any new cuts. Instead, they will demand that Saudi Arabia and Russia withdraw the 650,000 b/d they jointly added to the market and return them to the original 1.8 mbd cut under the OPEC/non-OPEC agreement. In so doing, the glut in the market will ease.

On balance, Russia will eventually agree a small cut just to keep its partnership with Saudi Arabia afloat since it benefits geopolitically and economically from such a connection.

Still, Saudi Arabia’s partnership with Russia is not an alternative to OPEC. This is a tactical partnership used by President Putin to enhance his country’s influence over the global oil market. Moreover, Saudi Arabia and Russia are diametrically opposed to each other ideologically and politically. Russia supported by China is trying to undermine the current uni-polar role currently enjoyed by the United States whist Saudi Arabia will do anything to remain in the United States’ good books. So such a partnership will be very short-lived.

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